October 30, 1997


US Policies Helped Fuel the Asian Crisis

Peter Morici and Edith Terry

As Wall Street analysts ponder their portfolios, the gurus have been virtually unanimous in blaming Asia's weakness on fiscal and monetary mismanagement in nations many Americans would have trouble locating on a map.

But let's get real. As Pogo said, we have seen the enemy and it is us.

The policy misjudgments didn't begin with Bill Clinton. But the administration certainly exacerbated the situation when it eased pressure on Asian nations to buy as much from the United States as they sell to us.

Over the last few years, Asian nations—China and Japan in particular—have amassed massive holdings of U.S. dollars and Treasury securities.

These holdings have underpinned the administration's quixotic policy of using a strong dollar to keep inflation at bay.

For this and other reasons, there has been zero effort to encourage the Southeast Asian exporting economies to float their currencies, comfortably linked to the U.S. dollar until the last few months.

More critical, neither Washington nor the international financial institutions have made much noise about the clubby chicanery that characterizes much of Asia's financial sector (exempting such paragons as Hong Kong and Singapore).

Developing Asia has followed the Japanese model in finance. The world's highest savings rates are intermediated almost entirely through banks. Capital markets, although they exist, are relatively illiquid.

Asian equity markets, of course, roared ahead, driven by the phenomenal appetite of mutual funds for emerging-economy stocks.

According to the World Bank, private capital flows to East Asia quintupled between 1990 and 1995. In 1995, East Asia claimed 47 percent of capital flows to low-income and middle-income countries.

By 1995, trading volume as a percentage of market capitalization was greater in China, South Korea, Thailand and Indonesia than in the United States.

The "miracle" began to unravel in July when, starting in Thailand, speculators bet against currencies when it became apparent that exports would be inadequate to service loans.

The process spread across the region so rapidly because devaluation in Thailand made exports from other countries less attractive. As the ranks of plummeting currencies grew, the pressures on remaining ones escalated.

Now, even relatively well-managed Hong Kong finds its investments in export-dedicated manufacturing in South China uncompetitive, and the Hong Kong dollar appears to be the next in line to fall.

All of this has been exacerbated by the Chinese and Japanese policies of running large trade surpluses with the United States.

Over the last two years, both countries have made massive purchases of U.S. dollars and Treasury securities, which permitted these juggernauts to continue their mercantilist strategies and capture excessive shares of the U.S. market at the expense of their Asian neighbors.

Regarding Japan, U.S. officials have been more concerned about the health of its equity markets and debt-laden banks than Japan's export bonanza.

The administration has turned a blind eye to Japan's de facto policy of pegging its yen above 120 to the dollar despite a ballooning trade surplus.

Who is to blame? Certainly, the Southeast Asian nations, as well as Japan and China, deserve some of the responsibility for refusing to accept the onus for better management of their financial sectors.

Poor regulation and oversight of banks as well as currency manipulation will undermine the integrity of capital markets just as restricted access and price fixing will corrupt the markets for rice or swine.

However, the United States has hardly been firm in linking access to its rich market and technology to real reform in financial markets and a commitment to playing by the rules of the international trading and financial systems.

U.S. domestic policy has also played a role in fostering Asia's bad habits.

While Federal Reserve Board Chairman Alan Greenspan has fretted that equity prices—with the Standard and Poor's 500-stock index yielding only about 4 percent—are too high by historical standards, he has failed to recall that real interest rates are very high, too.

A 30-year Treasury rate close to 6.5 percent translates into a real interest rate of about 5 percent.

It's tough to see how Southeast Asian countries could keep their currencies in line with the lure of those yields.

Japan and its banks are in no position to bail out these economies.

While the United States may be able to rescue Mexico, it is hardly able to save a continent—especially one with leaders who are ambivalent about free markets.

The only solution may prove to be an even stronger dollar.

All through the crisis, the Clinton administration has maintained the soundness of the domestic economy. But since 1985, one-third of U.S. growth has come from exports.

If the United States can't export, and a flood of new imports depresses incomes and growth, it may be more than the bull market that comes to an end with Asia's crash.